Determining which mutual fund to invest in depends on your risk appetite, investment goals and, above all, time horizon. College students are likely planning to keep their money invested for far longer than almost any other investor class, and should choose a fund for the long term.
No-Load Index Funds
An index fund seeks to mimic a stock index such as the S&P 500. Since the fund is designed to rise and fall with the overall market, it’s a great way to diversify without having to be an expert. And index funds often have relatively low costs or “no loads.” While it’s a good idea for everyone to minimize their investing costs, it can be particularly important for college students. A fund's management fee might seem inconsequential, but it can seriously eat away at your return. Since college students are likely to stay in a mutual fund for many years, the impact of high management fees are especially destructive.
College students aren't as likely to tap into their investments in the short term as older investors, so short-term dips aren't as big a concern. If a student is investing with long-term goals, such as retirement or an eventual down payment, it usually makes sense to look at strategies that help grow principal, rather than protect it. Long-term investors generally can afford to take on more risk, since since they’ll have plenty of time to recover from short-term bear markets. College students with these sorts of goals in mind may wish to choose funds that are concentrated primarily in equities, which provide greater growth opportunities but higher volatility than funds focused on bond investments.
Although students might have a variety of future savings goals, it’s an excellent idea to start saving for retirement as soon as possible. Even a head start of only a few years can make a huge difference in when you’re able to retire, and the sooner you start the more time your money has to grow. Students can choose from either a Roth IRA or a traditional IRA, both of which have tax advantages. The company administering your IRA will have a variety of mutual funds, with different levels of volatility and risk, from which to chose. Some IRAs will even offer mutual funds geared toward specific retirement dates, such as a 2040 or 2050 fund. These sorts of funds often will automatically rebalance the portfolio towards safer investments every five or ten years as the retirement date approaches.
The Roth IRA
A Roth IRA taxes your contributions to the fund rather than your distributions. For college students in a low tax bracket, it may make sense to take the tax hit now, and then let the investment grow tax-free for the next forty or fifty years. They can then receive distributions upon retirement without having to pay tax on it. A Roth IRA will also allow you to take up to $10,000 out ($20,000 for a married couple) to buy a first home, as of the time of publication.
Jake Costa has been a reporter and editor since 2003. Among other topics, he has covered business, finance, science, technology and the environment. He has written for "The Financial Times," Environmental Leader, "Latin Finance" and Sybase. He has a Bachelor of Arts in literature from the University of Michigan.